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Under IFRS, depreciation generally allocates the cost of tangible property, plant and equipment (PPE) over its useful life; amortisation does the same for intangible assets with finite useful lives. Neither has one required line on the income statement: the amount may be shown by expense type or included in a functional line such as cost of sales. This explanation covers IFRS, not US GAAP or tax depreciation.
What depreciation and amortisation mean
Depreciation for tangible assets
Depreciation is the systematic allocation of a tangible asset’s depreciable amount over its useful life. The depreciable amount is generally the asset’s cost less its residual value. It is an accounting allocation, not a measure of how much the asset’s market price has fallen. Under IAS 16, depreciation generally begins when the asset is available for use.
Amortisation for intangible assets
Amortisation is the corresponding allocation for an intangible asset. IAS 38 requires amortisation over the useful life of an intangible asset assessed as finite. An intangible asset assessed as having an indefinite useful life is not amortised, but it remains subject to impairment requirements.
Where does depreciation go on the income statement?
IFRS does not require every company to show depreciation and amortisation on one separate income-statement line. IAS 1 permits expenses to be analysed by nature or by function.
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| Presentation | What it groups | What readers see |
|---|---|---|
| By nature | The type of expense, such as depreciation, employee benefits, or materials. | Depreciation and amortisation may appear as their own line, making the charge directly visible. |
| By function | The business activity that incurred the expense, such as cost of sales, distribution, or administration. | Depreciation and amortisation may be included within those functional lines. IAS 1 requires additional information about the nature of expenses, including depreciation and amortisation expense. |
In practical terms, a separate “depreciation and amortisation” line indicates presentation by nature. If the charge is included in cost of sales or administrative expenses, the statement is presenting expenses by function; accompanying disclosures provide information about the expense’s nature.
Can depreciation be included in cost of goods sold?
Yes. If an asset’s benefits are consumed in producing another asset, IAS 16 allows its depreciation to be included in that other asset’s carrying amount. For example, depreciation on factory equipment may be part of inventory conversion cost. It can then flow into cost of sales when the inventory is sold rather than appearing immediately as a separate expense in the period the equipment is used.
How the expense is calculated and reviewed
Depreciation is allocated systematically over an asset’s useful life. The method should reflect the pattern in which the asset’s economic benefits are expected to be consumed. IAS 16 requires the residual value and useful life to be reviewed at least at each financial year-end. If expectations change, the revision is treated as a change in accounting estimate.
IAS 38 applies the consumption-pattern principle to amortisation of finite-lived intangible assets. The IASB has clarified that a method based on revenue is generally inappropriate for depreciation because revenue can reflect factors other than consumption of the asset’s benefits. IAS 38 likewise presumes that revenue-based amortisation is inappropriate, with only limited circumstances in which that presumption can be rebutted.
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Depreciation generally does not stop simply because an asset is temporarily idle. Under IAS 16, it ordinarily continues while the asset remains recognised and is not fully depreciated, subject to the standard’s specific rules.
Does depreciation reduce cash flow?
Depreciation and amortisation reduce accounting profit when recognised, but the charge itself is not a cash payment made in that period. The cash outflow for buying or constructing an asset occurs separately from the later allocation of its cost across accounting periods. This distinction explains why profit and cash movement are not the same thing; it does not, by itself, specify how a particular company presents the charge in its cash-flow statement.
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Scope: IFRS, not US GAAP or tax rules
The presentation and recognition points here describe IFRS requirements. They should not be assumed to describe US GAAP financial statements or tax depreciation, which are outside this explanation. The spelling “amortisation” is commonly used in IFRS standards; “amortization” is the US spelling used in this article’s title.
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IFRS sources
- IAS 16: Property, Plant and Equipment
- IAS 38: Intangible Assets
- IAS 1: Presentation of Financial Statements
- IASB: Clarification of Acceptable Methods of Depreciation and Amortisation
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